The National Living Wage and the productivity challenge

Research published earlier this week by the Social Market Foundation and Adecco Group concluded that many businesses will struggle to meet the cost of the National Living Wage (NLW). Without a significant productivity boost, many businesses will be forced to cut costs, which, almost inevitably, means cutting jobs.

The trouble is, the businesses likely to be most affected by the NLW are also the ones least likely to have the wherewithal to improve productivity. For example, the severely affected firms are already less likely to train people.

Screen Shot 2016-02-15 at 18.12.47

Chart by Social Market Foundation

As Nida Broughton, the SMF’s chief economist says:

The low stock of skills amongst those affected by the new National Living Wage, and the relative lack of access to in-work training, means that businesses and the Government will have to act to make sure that workplace productivity rises alongside the new regulated wage.

If businesses can increase productivity there is less likely to be a risk of higher unemployment as a result of the introduction of the NLW, and workers will be more likely to benefit.

In its report report on the labour market last year, the UK Commission for Employment and Skills noted that Britain has too few high performance workplaces and a long tail of poorly managed firms. Its recent skills report found that, despite inflation and a larger workforce, training investment is more of less the same as it was two years ago.

That low pay and low training investment go together should come as no surprise. Research by NESTA and the Bank of England found that the UK economy is experiencing the opposite of creative destruction. The more productive firms have disappeared and been replaced by less productive ones. In other words, it looks as though some firms have been set up precisely because labour is cheap. It’s Mike Haynes’s Hand Car Wash Syndrome. There are firms whose entire business model depends on throwing a lot of low paid labour at a problem and not investing in skills or technology.

Figures released by the ONS this week suggest that the recent pick up in productivity has slowed down again.


Chart by Resolution Foundation

The gap between the UK’s productivity and the G7 average is the highest since records began in 1991.

Screen Shot 2016-02-18 at 10.42.46

Chart from ONS International Comparisons of Productivity, 18 February 2016

Rapid productivity improvements across entire sectors are unusual and this is not a country showing any signs of making them.

What, then, might those businesses that are dependent on cheap labour do as the NLW starts to bite? A few might improve productivity, as the SMF urges them to, but many probably won’t. They will either go out of business or find other ways of taking on workers.  There is, after all, an army of poorly paid freelancers out there who are not covered by the minimum wage.

Talking of which, the employment figures were also out this week. After falling back from its peak in early 2014, the number of self employed people has risen again in the last few months.

Emp change 2008 to 2015

Source: ONS Labour Market Statistics, 17 February 2016

You can date the start of the recent rise in self-employment almost from the announcement of the NLW. Still to early to draw conclusions from this, of course. It could just be coincidence….


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11 Responses to The National Living Wage and the productivity challenge

  1. Simon Jones says:

    While this is a really useful analysis, I can’t help remembering similar predictions of doom and unemployment when the minimum wage was introduced.

    • Dave Timoney says:

      Not similar at all. The argument against the original minimum wage was that it would price labour out of the market (and thus increase unemployment). In economese, it was making labour more sticky at a time when there was scope to make the labour market more flexible (less sticky).

      If I understand him correctly, Rick’s fear (I wouldn’t go so far as to call it a prediction) is that we’ve now made the labour market so flexible (through casualisation) that the impetus to productivity expected from any increase in the price of labour (i.e. through capital-labour substitution) will be dissipated.

      What’s was previously an argument centred on profitability and employment is now centred on productivity and GDP.

  2. Craig Ryan says:

    “A few might improve productivity, as the SMF urges them to, but many probably won’t. They will either go out of business or find other ways of taking on workers”

    Isn’t there another possibility – that firms will continue in business with slightly reduced profits? The NLW would thus represent a small transfer of income from capital to labour (after many years going in the other direction).

    In my experience, a lot of business people react to anything which might raise costs even slightly by saying it will force them out of business, when what they really mean is they might not be able to afford that Spanish villa or to upgrade the BMW next year.

  3. Pingback: Modern Learning and UK Productivity – Thinking About Learning

  4. Frank says:

    Is there something around measured productivity being correlated to wages and the causation not just running in the one direction? ie prices will go up, and the workers will appear more productive

  5. Nora says:

    I can’t help feeling that a higher minimum wage will result in less casualization of the workforce. If a company is going to have to invest in employees to the extent they cannot pay peanuts (except by signing up apprentices for a minimum of a year), then they’ll want to have more say in what those people working for them do. Zero hours contracts have resulted in a growing trend for ‘ghosting’ that is, employees not turning up or notifying that they are not working for the company any more.

  6. Needs2Cash says:

    I expect to pay 20% more for my car to be washed. We all may see an increase in inflation starting with our Council Tax bills.

    • JohnR says:

      My local council held the necessary 2% referendum to account for extra for the police. They got a resounding NO (75/25%). Unless they rise the referendum lick of 2%, I expect a lit of not-a-chance results

  7. colinnewlyn says:

    It would be interesting to see how the level of company bankruptcies and liquidations correlates to productivity. Very low interest rates, low wages and the reluctance of banks to call in debts have created a large number of ‘zombie’ companies that would have been shaken out of the economy in previous downturns. The crowd out the opportunities for new companies, which are typically much more productive, to enter the economy. If the effect of the NLW is to cause more failures of poorly performing companies, it could be argued this will have a positive impact on productivity overall.

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